2012 is set to be a memorable year, being the year of the Queen’s Diamond Jubilee and the London Olympics. It will also be a notable one on the pensions front, with the first workers being subject to auto-enrolment. Here we look at what other significant changes are likely to affect the pensions landscape.
Employer Debt Regulations – New Flexible Apportionment Arrangement
New Employer Debt Regulations are due to come into force on 27 January 2012, introducing a new Flexible Apportionment Arrangement (FAA). This will provide an additional mechanism for dealing with the liabilities of an employer withdrawing from a multi-employer defined benefit (DB) scheme and is intended to assist in dealing with employer debts triggered by corporate restructurings.
The new FAA will allow the pension liabilities of an exiting employer to be apportioned to one or more employers staying in the scheme, who effectively step into the shoes of the exiting employer. The scheme trustees, the exiting employer and employer(s) to whom liabilities are apportioned all need to agree to the FAA.
Under the FAA, an employer debt need not be calculated on each occasion on which an employer ceases to employ an active member of the scheme. This is a significant advantage over the existing employer debt apportionment mechanisms.
As with the current Scheme Apportionment Arrangement (SAA), trustees must still carry out a funding test and be satisfied that:
- the remaining employers are reasonably likely to be able to fund the scheme; and
- the FAA will not adversely affect the security of members’ interests.
Like the SAA, entering into an FAA will be a notifiable event.
The new Regulations also allow trustees to extend the grace period within which a leaving employer can delay triggering an employer debt if it intends to employ active members again from 12 months to up to 36 months. Employers will also have a more practical two months rather than the current month to give trustees notice of their intention to rely on a grace period.
Lifetime Allowance Reduction and Fixed Protection
On 6 April 2012, the Lifetime Allowance (LTA) falls to £1.5 million. Individuals who think their total pension savings may exceed this amount have until that date to apply to HM Revenue & Customs (HMRC) for “fixed protection” (up to a maximum of £1.8 million). Without fixed protection, benefits above the LTA will be subject to a one-off 55 per cent tax charge if taken as a lump sum or 25 per cent if taken as a pension.
After a summer celebrating (we hope) Britain’s sporting successes, auto-enrolment will take centre stage.
From 1 October 2012, employers must begin to auto-enrol eligible workers into a qualifying pension scheme. The requirement will be phased in over a number of years (probably four), with the largest employers first. Following an announcement by the Government last November of a delay to the implementation of the requirement for small businesses, the implementation dates for employers with fewer than 3,000 employees are currently being revised.
The Department for Work and Pensions (DWP) is consulting on raising both the earnings trigger and the qualifying earnings band. Consultation closes on 26 January. We anticipate the earnings trigger will rise to £8,105 and the qualifying earnings band will change to £5,564 – £39,853.
Employers have a choice as to the scheme into which they auto-enrol employees. DB schemes must provide certain minimum benefits and a minimum level of contributions must be paid to defined contribution (DC) schemes. Where a DC scheme is used, employers and their auto-enrolled workers must pay pension contributions, which will increase over time:
- October 2012 to September 2016 – total minimum of two per cent of qualifying earnings with at least one per cent from the employer.
- October 2016 to September 2017 – total minimum of five per cent of qualifying earnings, with at least two per cent from the employer.
- from October 2017 – total minimum of eight per cent of qualifying earnings, with at least three per cent from the employer.
The advent of auto-enrolment is likely to see an increased focus by employers on rationalising benefits, which may be provided on different bases and under several schemes, depending on when a person started employment.
Trivial Commutation of Small Personal Pension Plan Pots
From 6 April 2012, individuals aged 60 or over will be able to commute personal pension plan pots of £2,000 or less. Schemes can ignore both the value of the individual’s total pension savings and the value of any trivial commutation payments from occupational pension schemes. However, an individual can only receive two of these lump sum payments in their lifetime. For members who have not drawn benefits, 25 per cent of the payment will be tax free, with the remaining 75 per cent chargeable to income tax as pension income. For pensioners, the full payment will be chargeable to income tax as pension income.
As part of the proposed abolition of short-service refunds from DC occupational schemes, the DWP is also consulting on how to improve transfers between schemes and deal with small pension pots. Consultation ends on 23 March 2012. Measures proposed include:
- an automatic transfer system whenever an employee changes jobs;
- an automating aggregator scheme for consolidating a member’s small pots; and
- making the voluntary transfer system more user friendly.
DC Contracting Out
Protected rights will be abolished from 6 April 2012. All DC contracting-out certificates will be cancelled. Scheme members will be contracted back in and able to build up rights under the state second pension (S2P). During the three-year transitional period to April 2015, HMRC can pay contracted-out rebates and adjust NI contribution records if necessary.
Readers may recall the EU Court of Justice’s ruling last year in the Test-Achats case. The Court ruled that insurers cannot use gender-specific factors in setting premiums and benefits for policies entered into after 21 December 2012. The Government is consulting until 1 March on changes to the Equality Act 2010 aimed at implementing the judgment into UK law. Schemes that provide for internal annuitisation of DC pots may wish to consider whether they should also use gender-neutral rates.
Pensions Regulator Data Requirements
A DB pension scheme is fundamentally about paying specific benefits to individuals at a certain point in time. Getting this basic task right requires trustees to have complete and accurate membership data. Inaccurate or incomplete data may result in extra costs in having to deal with member complaints and correct member payments, and may also complicate or restrict risk reduction exercises such as member buyouts and buy-ins.
The Pension Regulator’s guidance sets certain data targets with which trustees should comply by the end of 2012. Schemes must achieve at least 95 per cent accuracy for common data – data that uniquely identifies individual members such as name, National Insurance number and date of birth. The target is 100 per cent for members who joined a scheme after June 2010.
Trustees also need to set high targets for conditional data, which varies by the type of scheme and its design, all to be completed by December 2012. Conditional data includes:
- Employing company
- Pension sharing or earmarking order
- Investment split
- Benefit crystallisation event details.
Vigorous lobbying against the application of a Solvency II type requirement to pension schemes is likley to continue given the CBI’s estimate that it could increase scheme funding requirements by around half a trillion pounds.
Increasing pension schemes investment in infrastructure was a key part of Chancellor George Osborne’s Autumn Statement. A framework to progress the infrastructure plan will be revealed in the 2012 Budget in March.
Until then, officials from HM Treasury, the National Association of Pension Funds and the Pension Protection Fund (PPF) will meet at least twice a month to develop the framework.
Last year, Rolls-Royce became the 12th FTSE 100 company to complete a longevity risk transfer deal for its pension scheme. Blue-chip companies have now entered into longevity swaps covering over £11 billion of liabilities. 2012 is likely to see a continued focus on pensions risk management and in particular the use of longevity swaps as a key risk management tool for both trustees and sponsors.
Enhanced Transfer Value Exercises
Last year saw the Government express its increasing concern that enhanced transfer value (ETV) exercises were being used in a manner contrary to the interests of members. The Government has indicated that a code of conduct on ETV exercises will be published this summer, including a requirement for employers to pay for independent financial advice for members. The FSA and the Pensions Regulator will enforce the code.
The PPF is conducting a pilot study to equalise Guaranteed Minimum Pensions (GMPs) for schemes in an assessment period and those where members are already receiving compensation. We understand that the PPF discussed its approach with the DWP before starting this study.
Clearer proposals regarding the requirement to equalise GMPs are likely to appear later this year and reflect the PPF’s experience from the study.
Money Purchase Benefits
In the first pensions case to reach the Supreme Court (Houldsworth v. Bridge Trustees) the Court decided that money purchase benefits can include benefits where the benefit liability exceeds the value of assets held to provide the benefit. In a last minute change to the Pensions Act 2011, the Government introduced a new definition of “money purchase benefits” to reverse the effect of the judgment, making it clear that benefits cannot be regarded as money purchase benefits where they can be subject to a funding shortfall. Controversially the change is stated to take effect from the beginning of 1997.
The new definition is not yet in force and the Government intends to consult on regulations making consequential and transitional changes. The terms of the proposed regulations will need to be considered carefully by schemes that provide what have generally been considered DC benefits subject to some sort of benefit underpin, investment guarantee or internal annuitisation.
This year is likely to see the courts deciding some key issues relating to pension schemes.
In 2010, the Determinations Panel of the Pensions Regulator determined that Financial Support Directions (FSDs) should be issued against several Nortel and Lehman companies.
There is a dispute as to where an FSD ranks in the priority of claims payable by an insolvent company. Last year the Court of Appeal upheld the High Court’s decision that FSDs issued against companies after they enter administration (or a liquidation not immediately preceded by administration) are to be treated as an expense of administration/liquidation, ranking ahead of unsecured creditors. The consequences of this are that in many cases the claims of unsecured creditors will be wiped out and companies with DB pension schemes may now find the availability of credit more complicated. The Supreme Court is expected to rule on the issue towards the end of the year.
The Upper Tribunal will hear an appeal against the imposition of the FSDs in March 2012.
Wheels VAT Case
Trustees will be hoping for clarity on whether DB schemes should pay VAT on their investment management services. Several questions have been referred to the EU Court of Justice, but no hearing date has been announced as yet.
Pitt v. Holt/Futter v. Futter
These two cases concern important points of legal principle about the circumstances in which the court will set aside a decision of trustees. In March last year, the Court of Appeal held that what has been known as the rule in Hastings-Bass – where the court will set aside the exercise of a trustee power that has an effect different from that intended and where the trustees would not have exercised the power as they did had they taken into account all relevant and no irrelevant matters when exercising the power – is not good law.
The Supreme Court is expected to hear appeals on the cases towards the end of the year.
Finally, unions lost their High Court case challenging the Government’s switch of pension increases in public sector schemes from RPI to CPI. From statements made by union representatives immediately after the hearing, we expect a Court of Appeal hearing later this year.